Description

Investment Overview:
Pasona (2168.JP) is a long. The Company owns 51% of Benefit One (2412.JP) which is currently subject to a bidding war between M3 (2413.JP) and Dai-Ichi Life (8750.JP). Either bid will likely render Pasona a big pile of cash worth ~50% more than its EV as well as an operating business worth another ~50% of current EV. Given the fact that Pasona’s founder is 71, this could tee up a management buy-out or a substantial return of capital program.

Company Overview:

Pasona is one of the pioneers in the outsourced HR industry in Japan.  Japan is obviously notorious for an ossified corporate hiring environment which prizes seniority and offers lifetime employment. Pasona was an early mover in temporary staffing where they provide temp workers for both in-house operations as well as contract operations like call centers. In 1996, the Company also founded Benefit-One (subsequently listed and they have sold down their stake to 51%) to provide something akin to group purchasing for employee benefits and other BPO services (think things like group purchasing of healthcare and other employee benefits like travel plans, gym memberships etc which they then offer to their corporate clients). I would note that Dai-Ichi life seems like a great purchaser for this asset since they’re one of the largest life insurance companies in Japan with 160K corporate customers and 40K sales personnel. The cross-sell opportunities with Benefit-one and their 16K corporate customers is obvious (whereas M3 mostly is more of a medical IT platform business providing data to docs and drug marketing companies. I’d also note Dai-Ichi Life’s market cap is 2x that of M3)

Situation Background:

In mid-November M3 (2413.JP) announced an agreed deal to launch a business alliance and partial tender to buy 51-55% of Benefit One (2412.JP) from Pasona as well as minority shareholders. The deal price was set at 1600 JPY/share which was a 40% premium to previous close but a 70% discount from the 3 year high.

Three weeks later, Dai-Ichi Life (8750.JP) entered the picture saying they wanted to bid 1800 JPY/share for the entire Company (ie all of Pasona’s stake as well as all minority shareholders) structured as 1491/share to Pasona and 2123/share for the Benefit One float. The structure of this proposal takes advantage of a quirk in Japanese tax law which allows a subsidiary to buy shares back from a parent to effectuate a buyout of the parent without the parents paying capital gains taxes as they would if they were to sell their stock to a third party. I address some of the nuances below, but the net result is that this makes the Dai-Ichi life offer more attractive to Pasona and Benefit-One.)

What is Pasona worth?

What happens next?

• Dai-Ichi’s bid is conditional upon the board approval from the targets and cancellation of the M3 partial tender offer. The M3 tender offer was scheduled to expire Jan 17 but M3 extended it an additional 30 days.
  • Implication here is that Pasona/Benefit One seem to be giving M3 the opportunity to top the Dai-Ichi  bid. But the fact they haven’t announced a higher bid suggests that isn’t a foregone conclusion.
• The Board has a fiduciary responsibility to recommend the best deal. Given the higher price for the Dai-Ichi bid, I think that’s the clear winner (and from Pasona’s perspective, the deal is better as well since they’re being largely cleaned out of the position either way). 
• Either M3 bid comes up or the Boards are likely to recommend Dai-Ichi bid within the next 30 days (could be sooner)

Nuances of tax angle:

Reiwa 2 (2020) Tax Reform legislation amended the tax treatment of subsidiary buybacks of parents stock. Normally if a parent were to sell their stock, the premium above book value (which in this case would be substantial) would be taxed as a deemed dividend. Under the amended legislation, a buyout of the parent could be conducted via an increase in the subsidiaries paid in capital (which therefor increased book value and reduced taxes payable). There are other puts/takes, but the net result here is that Dai-Ichi Life’s 2123 JPY/share bid for minorities is equivalent to a substantially tax-free 1491 JPY/share for Pasona’s stake (overall value per Benefit One share of 1800 JPY) 

Risks/mitigants:

• The bids for Benefit One could fail.
  • This is a risk, but it’s worth noting Pasona is clearly a willing seller here.
  • Perhaps the more salient “risk” is Benefit-One opts for the M3 transaction instead. This would still result in Pasona being a pile of cash, but just a smaller pile (depends on what the tender ratio is between public and Pasona, but it doesn’t change the discount to NAV all that much)
• Pasona could use cash proceeds to deploy into investments instead of going private.
  • This is definitely a notable risk. Management hasn’t given any indication of being empire builders and an MBO would still allow them to do whatever they wanted without the glare of public oversight. But ultimate use of a cash heavy balance sheet is obviously a risk.
  • Having said that, the founder, Nambu-san, is not a typical Japanese businessman. He has been outspoken in his passion for urban farming (and agricultural projects in general) as well as the development of his hometown of Awaji Island in Kansai into a “utopia” (he relocated Pasona to Awaji in ’20 and they now have ~1500 employees there).  Pasona has been involved in helping to develop Awaji and it is possible Nambu-san redirects the Company entirely in that direction.
    • I would note, however, that the 7^th largest holder of Pasona is a British fund (AVI) with a history of activism. Oasis (one of the larger Japanese activist funds) has also been involved in the past looking to get the Company to sell their Benefit One stake. Nambu-san will have a tough time flushing this money down the drain. 

Catalyst

Resolution of current bidding war